Sometimes referred to as trade credit insurance or A/R insurance, accounts receivable insurance provides a company cash flow despite natural disasters, geopolitical events, an economic downturn, seasonal business cycles, client ownership changes, and other issues that may create uncertainty. In this article, we’ll take a quick look at how a receivable insurance policy works to reduce non-payment risks, what to look for in a good provider, and alternative forms of credit management to consider if insurance doesn’t align with your business needs.
What is Accounts Receivable Insurance Coverage?
When a business agrees to invoice after goods or services are delivered, it’s technically offering credit to the receiving entity. This process, known as accounts receivable insurance – sometimes called trade credit insurance or simply accounts receivable insurance coverage, provides companies with protection against customers who fail to pay what they owe. Also known as trade credit and generally with no interest, these loans or receivables, which are essentially the company’s accounts receivable records, account for 35-40 percent of a typical company’s assets, per MarshMcLennan data. This typically makes receivables the most important asset for businesses in the U.S.
The risk of non-payment in most cases falls to the company with outstanding invoices. Companies protect themselves against non-payment risks and maintain their balance sheets. Should their largest customers or multiple clients default or file bankruptcy, the company owed is often simply out the money. The cycle then perpetuates, as the company holding the unpaid invoices can easily become insolvent too.
Accounts receivable insurance coverage serves as a safeguard, protecting a company’s earnings when things go awry.
How Does Accounts Receivable Insurance Work?
A credit insurance policy can offer robust protection beyond coverage in the event of non-payment. For example, the policy buyer may be entitled to recoup losses from interest charged if a loan is obtained to help cope with uncollected invoices or reimbursement of unusual and excessive collections costs associated with non-paying customers. In addition, if accounts receivable records have been lost or damaged, oftentimes, a policy covers costs associated with getting records back, such as hiring an IT professional.
Frequently, the insurance company will also check into prospects before their client extends trade credit. They’ll monitor the companies being extended trade credit and notify their client if signs of financial distress are detected. That way, the access to trade credit is reduced or eliminated long before the owing company begins filing bankruptcy.
There are four main types of accounts receivable insurance.
Whole Turnover
A whole turnover policy addresses commercial debt from all your customers. It may apply to both international and domestic sales or just one type.
Key Accounts
A key accounts policy is generally ideal if the bulk of your trade credit has been extended to just a few large customers. It covers just the clients you choose.
Single Buyer
If most of your trade credit has been extended to a single client, you can choose a single buyer policy to cover just one account.
Transactional
If you only have one customer or don’t conduct many sales, a transactional policy will let you cover individual transactions as needed.
Top Three Benefits of Accounts Receivable Insurance Cover
There are many benefits to obtaining accounts receivable insurance, but they typically fall into three core areas.
1. Get Better Financing
With additional assurances that your receivables are likely to be paid, you become a less risky borrower when you apply for loans and lines of credit too. Moreover, you may be able to reduce your bad debt reserves and free up additional working capital for your business. These things can help you lock in favorable rates and often qualify for more funding than you otherwise would have.
2. Expand Sales
The insight provided by insurance companies regarding the creditworthiness of new and existing customers empower businesses to make informed decisions. If certain clients were previously deemed too risky, an accounts receivable insurance policy can provide the confidence to pursue new deals and extend competitive credit terms, driving business growth.
3. Gain a Competitive Edge
While bad debt reserves aren’t tax-deductible, premiums for trade credit insurance are. This distinction can lead to significant savings. Moreover, with your leading asset – your receivables – safeguarded, your balance sheet remains strong, giving you an edge in the market.
Calculating the Cost of Receivables Insurance
Your rates will be tied to the types of accounts you’re insuring, sales volume, whether you’re insuring domestic or international clients, and the types of events your policy covers. If you’re seeking international coverage, expect to pay premium rates up to around one percent of sales. If domestic, you’ll generally pay one-half percent or less.
Finding the Right Accounts Receivable Insurance Provider
Many major insurance companies and banks offer A/R insurance. If you’re already established with one and satisfied with their services thus far, you may want to check into their receivable’s insurance too. If not, consider partnering with a company that specializes in insuring businesses within your industry, as they’ll be in a better position to evaluate the risks involved and will typically offer the best coverage at a fair rate.
Explore Invoice Factoring as an Alternative
If accounts receivable insurance feels like overkill and/or you need to accelerate your cash flow, invoice factoring may be a better fit for your business needs. With factoring, you sell your accounts receivables to a third-party company known as a factor. The factor pays you right away and then waits on payment from your customer. Because your customer is ultimately the one paying invoice, your factoring company will typically run credit checks to ensure the creditworthiness of new and existing customers, so your overall risk is reduced.
Get a Complimentary Charter Capital Rate Quote
Headquartered in Houston, Texas, with principals who have been providing specialized financial solutions across a wide variety of industries since the 1980s, Charter Capital offers a wealth of benefits, including free credit reports, same-day funding, the most flexible terms in the industry, free collections services, and more. If you’d like to learn more about factoring or are ready to get started, request a complimentary rate quote from Charter Capital.
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